Your Startup Can Thrive Without VC That it Will Probably Never Get Anyway

Author and Associate Professor of Management Practice, London Business School

September
4, 2014
5 min read

Opinions expressed by Entrepreneur contributors are their own.

Everybody believes that running a lean start-up, pivoting when the time is right and raising venture capital are the trifecta of today’s entrepreneurial world, right? Hang on! These days, the rejection rates at accelerators, angels and VCs are off the charts.

YCombinator, 97.2 percent rejected. Only 74 of 2,600 applicants were accepted into their latest cohort.

AngelList, 98.8 percent rejected: Angels are not more welcoming. Of the 85,000 deals listed on the AngelList site in 2013, only around 1,000 won funding, according to The Economist.

Andreessen Horowitz, 99.3 percent rejected: Of some 3,000 inbound deals a year, 15 to 20 are funded. As Mark Andressen puts it, “Our day job is crushing entrepreneurs’ hopes and dreams. Our main skill is saying no, and getting people not to hate us.”

With these kinds of odds, most entrepreneurs will have to find a better way to start, finance, and grow their businesses. But how?

Customers’ cash. Consider Claus Moseholm, co-founder of GoViral, a Danish company created in 2003 to harness the then-emerging power of the Internet to create and deliver video content for advertisers in viral fashion. He funded his company’s steady growth with his customers’ cash from the proceeds of one successful viral video campaign after another.

Moseholm and his partners built GoViral into Europe’s leading platform to host and distribute such content. In 2011, GoViral was sold for $97 million, having never taken a single krone or dollar of investment capital. The business was funded and grown entirely by its customers’ cash.

Is customer funding better than VC? In my view, the time and place for VC is when your business is already firing on all cylinders and just needs more fuel to grow. One reason rejection rates are so high is that most of the companies that prospective funders see haven’t gotten anywhere near that point just yet. So if your business isn’t there yet, or maybe won’t get there at all, what should you do?

What the largely unknown Moseholm and the more celebrated Michael Dell and Bill Gates have in common may surprise you. All three of them started and grew their companies largely (entirely, for GoViral) with their customers’ cash. Happily, there are five customer-funded models through which they and many others have done exactly that:

1. Matchmaker models, such as the USA’s Airbnb and DogVacay.

2. Pay-in-advance models like the USA’s Threadless and India’s Via. It’s what Michael Dell did, getting paid in advance before buying the parts for and assembling his customers’ PCs.

Bill Gates and Paul Allen, after getting started as a services business that wrote operating system software for the then-nascent PC industry, transitioned to selling application software like MS Word and Excel in shrink-wrapped boxes.

If you're wondering is these models better than raising VC, face the facts. Sadly, as any experienced VC or business angel will tell you, the Plan A that you have so lovingly conceived is unlikely to work.

Peter Drucker, arguably the leading management thinker of the twentieth century, observed, “If a new venture does succeed, more often than not it is n a market other than the one it was originally intended to serve, with products and services not quite those with which it had set out that are bought in large part by customers it did not even think of when it started and used for a host of purposes besides the ones for which the products were first designed.”

The way forward. If you’re an aspiring entrepreneur, an early-stage entrepreneur or an angel investor, mentor or business accelerator or incubator professional who supports high-potential entrepreneurial ventures, a customer-funded approach may offer the most sure-footed path to starting, financing or growing your business or one you support without investors, at least at the outset.

If all goes well, as was the case for Claus Moseholm of GoViral, once you get started, you may well find a way to go the distance without outside funding. If you do, you’ll end up owning a much larger stake in your business than if you’d taken venture capital. Who kept a greater share of the value his company created, Michael Dell or Steve Jobs? It was Dell, hands down.